O.K., here it comes: The unthinkable is about to become the inevitable.
Last week, Robert Rubin, the former Treasury secretary, and John Lipsky, a top official at the International Monetary Fund, both suggested that public funds might be needed to rescue the U.S. financial system. Mr. Lipsky insisted that he wasn’t talking about a bailout. But he was.
It’s true that Henry Paulson, the current Treasury secretary, still says that any proposal to use taxpayers’ money to help resolve the crisis is a “non-starter.” But that’s about as credible as all of his previous pronouncements on the financial situation.
So here’s the question we really should be asking: When the feds do bail out the financial system, what will they do to ensure that they aren’t also bailing out the people who got us into this mess?
Let’s talk about why a bailout is inevitable.
Between 2002 and 2007, false beliefs in the private sector — the belief that home prices only go up, that financial innovation had made risk go away, that a triple-A rating really meant that an investment was safe — led to an epidemic of bad lending. Meanwhile, false beliefs in the political arena — the belief of Alan Greenspan and his friends in the Bush administration that the market is always right and regulation always a bad thing — led Washington to ignore the warning signs.
By the way, Mr. Greenspan is still at it: accepting no blame, he continues to insist that “market flexibility and open competition” are the “most reliable safeguards against cumulative economic failure.”
The result of all that bad lending was an unholy financial mess that will cause trillions of dollars in losses. A large chunk of these losses will fall on financial institutions: commercial banks, investment banks, hedge funds and so on.
Many people say that the government should let the chips fall where they may — that those who made bad loans should simply be left to suffer the consequences. But it’s not going to happen. When push comes to shove, financial officials — rightly — aren’t willing to run the risk that losses on bad loans will cripple the financial system and take the real economy down with it.
Consider what happened last Friday, when the Federal Reserve rushed to the aid of Bear Stearns.
Nobody expects an investment bank to be a charitable institution, but Bear has a particularly nasty reputation. As Gretchen Morgenson of The New York Times reminds us, Bear “has often operated in the gray areas of Wall Street and with an aggressive, brass-knuckles approach.”
Bear was a major promoter of the most questionable subprime lenders. It lured customers into two of its own hedge funds that were among the first to go bust in the current crisis. And it’s a bad financial citizen: the last time the Fed tried to contain a financial crisis, after the collapse of Long-Term Capital Management in 1998, Bear refused to participate in the rescue operation.
Bear, in other words, deserved to be allowed to fail — both on the merits and to teach Wall Street not to expect someone else to clean up its messes.
But the Fed rode to Bear’s rescue anyway, fearing that the collapse of a major investment bank would cause panic in the markets and wreak havoc with the wider economy. Fed officials knew that they were doing a bad thing, but believed that the alternative would be even worse.
As Bear goes, so will go the rest of the financial system. And if history is any guide, the coming taxpayer-financed bailout will end up costing a lot of money.
The U.S. savings and loan crisis of the 1980s ended up costing taxpayers 3.2 percent of G.D.P., the equivalent of $450 billion today. Some estimates put the fiscal cost of Japan’s post-bubble cleanup at more than 20 percent of G.D.P. — the equivalent of $3 trillion for the United States.
If these numbers shock you, they should. But the big bailout is coming. The only question is how well it will be managed.
As I said, the important thing is to bail out the system, not the people who got us into this mess. That means cleaning out the shareholders in failed institutions, making bondholders take a haircut, and canceling the stock options of executives who got rich playing heads I win, tails you lose.
According to late reports on Sunday, JPMorgan Chase will buy Bear for a pittance. That’s an O.K. resolution for this case — but not a model for the much bigger bailout to come. Looking ahead, we probably need something similar to the Resolution Trust Corporation, which took over bankrupt savings and loan institutions and sold off their assets to reimburse taxpayers. And we need it quickly: things are falling apart as you read this.
Equity markets and the dollar sold off sharply on Monday, as the rescue of stricken investment bank Bear Stearns sparked fears of further financial sector strife.
The dollar tumbled to new lows against most currencies as markets increasingly priced in the likelihood of a 100-basis-points cut in the main Fed funds rate when the US central bank meets on Tuesday.
Shares in US banks opened significantly lower after JP Morgan Chase emerged over the weekend as the buyer of rival Bear Stearns for $2 a share.
The move came as the Fed announced it was cutting the discount rate at which it lends to banks by 25 basis points to 3.25 per cent, and opening up its discount window to 90 days from 30 days.
By midday in New York, Bear Stearns shares were 87.9 per cent lower at $3.74 as the S&P 500 shed 2.1 per cent. Lehman Brothers tumbled 34 per cent, while Morgan Stanley lost 10.2 per cent and Citigroup fell 9.1 per cent.
In Europe banks were the heaviest falling stocks as investors worried about which financial institution would be the next to experience problems with creditors.
UBS, the Swiss bank, fell 13.9 per cent, while in the UK Royal Bank of Scotland fell 8.7 per cent, Barclays shed 9.4 per cent and HBOS tumbled 12.8 per cent.
An announcement by the Bank of England that it was to inject an extra £5bn into distressed money markets did nothing to restore confidence, and the FTSE 100 in London closed 3.9 per cent lower at 5,414.4.
In Europe, the FTSE Eurofirst 300 plunged 4.2 per cent to 1,202.54, while Germany’s Xetra Dax fell 4.2 per cent to 6,182.3, and in France the CAC 40 dropped 3.5 per cent to 4,431.04.
In Tokyo, the Nikkei 225 Average fell 3.7 per cent to 11,787.51 as banks and carmakers led the decline. Elsewhere in Asia, Hong Kong’s Hang Seng index lost 5.2 per cent and India’s Sensex index lost 5.1 per cent.
The dramatic intervention by the Federal Reserve to sponsor the rescue of Bear Stearns raised fears that there could be more victims in the financial services sector.
”Given that Bear has been rescued by selling it at such a huge discount, the market will assume its balance sheet was seriously and fundamentally impaired, and concerns could rise that other institutions might be in a similar predicament,” said Marco Annunziata, chief economist at UniCredit.
The dollar tumbled to new lows against most currencies. The euro moved to a new record at $1.5904, up 1.5 per cent from Friday’s close. The dollar fell 2.5 per cent against the Swiss franc to a record low of SFr0.9737 as the franc’s safe-haven appeal came to the fore. The Japanese yen rose to a new 12-year high against the US currency to Y95.77, up 3.2 per cent, with its low yield also acting as a buffer against risk.
By mid-afternoon, however, the dollar was off its lows and moved higher against sterling as investors feared problems in the UK’s own financial sector. The pound edged 0.8 per cent lower to $2.0021.
The flight to safety ensured government bonds rose and forced yields sharply lower. The yield on the 10-year US Treasury fell 9.5 basis points to 3.37 per cent, while the two-year yield fell 13.8 basis points to 1.34 per cent.
Gold prices extended their foray into record territory above the $1,000 level in early European trading as investors looked for a safe haven from the turmoil. The precious metal hit a record $1,030.80 a troy ounce before easing back to $1,007.90, but still up 1.1 per cent from New York’s late quote of $996.90 on Friday.
In energy markets, crude oil hit a new record with Nymex April West Texas Intermediate hitting $111.80 a barrel before sharply reversing direction and sinking to a session low of $105.11. By midday in New York, WTI was $4.08 lower at $106.13 a barrel. ICE May Brent lost $4.12 at $102.08 a barrel.
8 comments:
Picking Bottom Mostly an Art but a little Science - Macquarie
Global Equities Technical - CIMB
Implications & Thoughts on the I-Banks - Citi
In the eye of the storm - UBS
JPMorgan Chase - UBS
Bear Stearns - UBS
The B Word
By PAUL KRUGMAN
March 17, 2008
O.K., here it comes: The unthinkable is about to become the inevitable.
Last week, Robert Rubin, the former Treasury secretary, and John Lipsky, a top official at the International Monetary Fund, both suggested that public funds might be needed to rescue the U.S. financial system. Mr. Lipsky insisted that he wasn’t talking about a bailout. But he was.
It’s true that Henry Paulson, the current Treasury secretary, still says that any proposal to use taxpayers’ money to help resolve the crisis is a “non-starter.” But that’s about as credible as all of his previous pronouncements on the financial situation.
So here’s the question we really should be asking: When the feds do bail out the financial system, what will they do to ensure that they aren’t also bailing out the people who got us into this mess?
Let’s talk about why a bailout is inevitable.
Between 2002 and 2007, false beliefs in the private sector — the belief that home prices only go up, that financial innovation had made risk go away, that a triple-A rating really meant that an investment was safe — led to an epidemic of bad lending. Meanwhile, false beliefs in the political arena — the belief of Alan Greenspan and his friends in the Bush administration that the market is always right and regulation always a bad thing — led Washington to ignore the warning signs.
By the way, Mr. Greenspan is still at it: accepting no blame, he continues to insist that “market flexibility and open competition” are the “most reliable safeguards against cumulative economic failure.”
The result of all that bad lending was an unholy financial mess that will cause trillions of dollars in losses. A large chunk of these losses will fall on financial institutions: commercial banks, investment banks, hedge funds and so on.
Many people say that the government should let the chips fall where they may — that those who made bad loans should simply be left to suffer the consequences. But it’s not going to happen. When push comes to shove, financial officials — rightly — aren’t willing to run the risk that losses on bad loans will cripple the financial system and take the real economy down with it.
Consider what happened last Friday, when the Federal Reserve rushed to the aid of Bear Stearns.
Nobody expects an investment bank to be a charitable institution, but Bear has a particularly nasty reputation. As Gretchen Morgenson of The New York Times reminds us, Bear “has often operated in the gray areas of Wall Street and with an aggressive, brass-knuckles approach.”
Bear was a major promoter of the most questionable subprime lenders. It lured customers into two of its own hedge funds that were among the first to go bust in the current crisis. And it’s a bad financial citizen: the last time the Fed tried to contain a financial crisis, after the collapse of Long-Term Capital Management in 1998, Bear refused to participate in the rescue operation.
Bear, in other words, deserved to be allowed to fail — both on the merits and to teach Wall Street not to expect someone else to clean up its messes.
But the Fed rode to Bear’s rescue anyway, fearing that the collapse of a major investment bank would cause panic in the markets and wreak havoc with the wider economy. Fed officials knew that they were doing a bad thing, but believed that the alternative would be even worse.
As Bear goes, so will go the rest of the financial system. And if history is any guide, the coming taxpayer-financed bailout will end up costing a lot of money.
The U.S. savings and loan crisis of the 1980s ended up costing taxpayers 3.2 percent of G.D.P., the equivalent of $450 billion today. Some estimates put the fiscal cost of Japan’s post-bubble cleanup at more than 20 percent of G.D.P. — the equivalent of $3 trillion for the United States.
If these numbers shock you, they should. But the big bailout is coming. The only question is how well it will be managed.
As I said, the important thing is to bail out the system, not the people who got us into this mess. That means cleaning out the shareholders in failed institutions, making bondholders take a haircut, and canceling the stock options of executives who got rich playing heads I win, tails you lose.
According to late reports on Sunday, JPMorgan Chase will buy Bear for a pittance. That’s an O.K. resolution for this case — but not a model for the much bigger bailout to come. Looking ahead, we probably need something similar to the Resolution Trust Corporation, which took over bankrupt savings and loan institutions and sold off their assets to reimburse taxpayers. And we need it quickly: things are falling apart as you read this.
Bear rescue spooks markets
By Neil Dennis
March 17 2008
Equity markets and the dollar sold off sharply on Monday, as the rescue of stricken investment bank Bear Stearns sparked fears of further financial sector strife.
The dollar tumbled to new lows against most currencies as markets increasingly priced in the likelihood of a 100-basis-points cut in the main Fed funds rate when the US central bank meets on Tuesday.
Shares in US banks opened significantly lower after JP Morgan Chase emerged over the weekend as the buyer of rival Bear Stearns for $2 a share.
The move came as the Fed announced it was cutting the discount rate at which it lends to banks by 25 basis points to 3.25 per cent, and opening up its discount window to 90 days from 30 days.
By midday in New York, Bear Stearns shares were 87.9 per cent lower at $3.74 as the S&P 500 shed 2.1 per cent. Lehman Brothers tumbled 34 per cent, while Morgan Stanley lost 10.2 per cent and Citigroup fell 9.1 per cent.
In Europe banks were the heaviest falling stocks as investors worried about which financial institution would be the next to experience problems with creditors.
UBS, the Swiss bank, fell 13.9 per cent, while in the UK Royal Bank of Scotland fell 8.7 per cent, Barclays shed 9.4 per cent and HBOS tumbled 12.8 per cent.
An announcement by the Bank of England that it was to inject an extra £5bn into distressed money markets did nothing to restore confidence, and the FTSE 100 in London closed 3.9 per cent lower at 5,414.4.
In Europe, the FTSE Eurofirst 300 plunged 4.2 per cent to 1,202.54, while Germany’s Xetra Dax fell 4.2 per cent to 6,182.3, and in France the CAC 40 dropped 3.5 per cent to 4,431.04.
In Tokyo, the Nikkei 225 Average fell 3.7 per cent to 11,787.51 as banks and carmakers led the decline. Elsewhere in Asia, Hong Kong’s Hang Seng index lost 5.2 per cent and India’s Sensex index lost 5.1 per cent.
The dramatic intervention by the Federal Reserve to sponsor the rescue of Bear Stearns raised fears that there could be more victims in the financial services sector.
”Given that Bear has been rescued by selling it at such a huge discount, the market will assume its balance sheet was seriously and fundamentally impaired, and concerns could rise that other institutions might be in a similar predicament,” said Marco Annunziata, chief economist at UniCredit.
The dollar tumbled to new lows against most currencies. The euro moved to a new record at $1.5904, up 1.5 per cent from Friday’s close. The dollar fell 2.5 per cent against the Swiss franc to a record low of SFr0.9737 as the franc’s safe-haven appeal came to the fore. The Japanese yen rose to a new 12-year high against the US currency to Y95.77, up 3.2 per cent, with its low yield also acting as a buffer against risk.
By mid-afternoon, however, the dollar was off its lows and moved higher against sterling as investors feared problems in the UK’s own financial sector. The pound edged 0.8 per cent lower to $2.0021.
The flight to safety ensured government bonds rose and forced yields sharply lower. The yield on the 10-year US Treasury fell 9.5 basis points to 3.37 per cent, while the two-year yield fell 13.8 basis points to 1.34 per cent.
Gold prices extended their foray into record territory above the $1,000 level in early European trading as investors looked for a safe haven from the turmoil. The precious metal hit a record $1,030.80 a troy ounce before easing back to $1,007.90, but still up 1.1 per cent from New York’s late quote of $996.90 on Friday.
In energy markets, crude oil hit a new record with Nymex April West Texas Intermediate hitting $111.80 a barrel before sharply reversing direction and sinking to a session low of $105.11. By midday in New York, WTI was $4.08 lower at $106.13 a barrel. ICE May Brent lost $4.12 at $102.08 a barrel.
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